Friday, March 15, 2013

15/3/2013: IMF Assessment of the Euro Area Banking Sector Risks - part 4

This is the fourth post on today's release by the IMF of the 2013 Financial System Stability Assessment Report for European Union report, and probably last.

The first post - summarising top-line conclusion from the Technical Note on Progress with Bank Restructuring and Resolution in Europe is available here:

The second post dealt with the Technical Note coverage of the Non-Performing Loans issues:

The third part focused on the real economy side of the banking sector risks within the euro area:

And related Country Risk Survey study for Q1 2013 covering euro area banking sector risks is available here: .

This note is focusing on the actual report itself: European Union: Financial Sector Stability Assessment.

Top-level assessment:

Per IMF: "Much has been achieved to address the recent financial crisis in Europe, but vulnerabilities remain and intensified efforts are needed across a wide front:

  • "Bank balance sheet repair. Progress toward strong capital buffers needs to be secured and disclosures enhanced. To reinforce the process, selective asset quality reviews should be conducted by national authorities, coordinated at the EU level." [In Irish context, the real review should be carried out, imo, across the quality of capital claimed to be present on banks balance sheets. Rating agencies have highlighted the Ponzi-like risk scheme whereby contingent capital measures are provided by the Sovereign supports whereby neither the Sovereign, nor the banking system can actually sustain a call on capital of any appreciable volume. Asset quality reviews are also needed, as Irish banks are carrying large exposures to unsustainable and already defaulting mortgages.]
  • "Fast and sustained progress toward an effective Single Supervisory Mechanism (SSM) and the banking union (BU). This is needed to anchor financial stability in the euro area (EA) and for ongoing crisis management. The European Stability Mechanism (ESM) is to take up its role to directly recapitalize banks as soon as the SSM becomes effective." [It is pretty much clear now that ESM is not going to be deployed unless significant pressure rises on Italy and/or Spain. In this context, calling for 'effective' ESM is like calling for a 'real' Santa Claus. Meanwhile, neither the SSM nor BU can be expected to become functional any time soon. The institutions behind both are yet to be defined, let alone fully legislated. And from legislation line, it's a long distance still to functionality.]

"Restoring financial stability in the EU has been a major challenge. The initial policy response to the crisis was handicapped by the absence of robust national, EU-wide and EA-wide crisis management frameworks. In a low-growth environment,
several EU countries are still struggling to regain competitiveness, fiscal sustainability, and sound private sector balance sheets. Their financial systems are facing funding pressures as a result of excessive leverage, risky business models, and an adverse feedback loop with sovereigns and the real economy."
[This is significant across a number of points. Firstly, in contrast to the European leadership claimed wisdom, the IMF clearly links banking crisis not just to sovereign crisis, but to the real economy, and these links follow not just balance sheet line, but the line of private sector debts. Secondly, the IMF clearly believes that private sector debt overhang is a core structural problem and has contagion implications across the entire system. EU leaders, even in countries heavily impacted by debt overhang, like Ireland, are solely obsessed with banks balance sheets (less) and sovereign finances (more).]

"Much has been done to address these challenges… Nevertheless, financial stability has not been assured. Recent Financial Sector Assessment Program (FSAP) assessments of individual EU member states have noted remaining vulnerabilities to:

  • stresses and dislocations in wholesale funding markets; 
  • a loss of market confidence in sovereign debt; 
  • further downward movements in asset prices; and 
  • downward shocks to growth." 

"These vulnerabilities are exacerbated by

  • the high degree of concentration in the banking sector; 
  • regulatory and policy uncertainty; and 
  • the major gaps in the policy framework that still need to be filled."

"The SSM—while critically important––represents only one of a number of crucial steps that need to be taken to fill key gaps in the EU’s financial oversight framework.

  • "As crisis tensions abate, it is important that the implicit unlimited sovereign guarantees in place for the last several years be effectively removed through affirmation and implementation of the principle that institutions with solvency problems must be resolved." [Note: in Ireland's case once again there is a departure from this principle - we are, simply put, not resolving insolvent institutions presence in the market. Instead, we are continuing to deleverage and consolidate the insolvent banking sector at the expense of its future viability and current borrowers and non-financial companies requiring credit. Resolving insolvency - especially after 4.5 years of supports - requires shutting down insolvent banks. That would de facto mean survival of the Bank of Ireland and significantly slimmed down AIB. And that's all. None else. We are far, far away from the Government even considering such an action, which means that the zombified banking sector will continue extract excessive rents out of stressed borrowers and businesses in this country for years to come all to dress up the banking sector 'stabilisation' whilst achieving no structural resolution of the crisis.]
  • "The Single Resolution Mechanism (SRM) should become operational at around the same time as the SSM becomes effective. Resolution should aim to minimize costs to taxpayers, as well as to deposit insurance and resolution funds, without disrupting financial stability." [The sheer nonsense of this statement is exposed by the core EU authorities insistence that ESM will not apply retrospectively. In other words, the ESM will be a promise of a miracle cure to the dying patient contingent of the patient surviving for a number of years required to devise the cure. And the same applies to the last two points below.]
  • "This should be accompanied by agreement on a time-bound roadmap to set up a single resolution authority, and common deposit guarantee scheme (DGS), with common backstops." 
  • "Guidelines for the ESM to directly recapitalize banks need to be clarified as soon as possible, so that it becomes operational as soon as the SSM is effective."

So here you go, folks, per IMF, there's an ambulance to help the injured, but currently it exists only on the paper and even as such it is still pretty much unworkable. Good luck with setting up that triage, mates.

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